When purchasing variable annuities, you typically have two ways to do this. Either you purchase it by making periodic payments over a specified period of time or you make a single lump-sum payment. The insurer agrees to compensate you with a minimum amount (each annuity provider will have different annuity quotes) of money on a regular schedule. The repayment can begin at a later point in time in the future or immediately. If you aren’t familiar with annuities then a site called Annuities Explained has a great explanation of all things annuities so I suggest you check them out.
When you purchase a variable annuity a length of time for the repayments is usually specified. These payments can be set to occur for the rest of your life at a frequency that you specify when you initially set up the contract. Additionally, you can specify whether the payments should be distributed to you or other individuals (beneficiaries).
Variable annuity contracts oftentimes contain certain clauses, one of which provides for the distribution of the funds should you pass away during the term of the annuity contract. You simply specify this when setting up the variable annuity contract so the intended person receives the death benefits.
Despite the fact that there are a number of advantages involved with investing in variable annuities, you should no that this type of investment carries certain disadvantages as well. There are two primary advantages and two primary disadvantages to be aware of.
The advantages are:
Guaranteed income – variable annuities provide you with a set minimum of payments scheduled on a periodic basis. If you are looking at retiring and worried about outliving your repayment schedule, variable annuities give you peace of mind. No matter how long you live, you are guaranteed of receiving the income from you annuity. You will receive less than the minimum payment even thought the exact amount might differ based on how your investment performs.
Tax-deferred income – the funds deposited into a variable annuity grows on a tax-free basis. Additionally, the funds of the annuity can be shifted from the annuity to some other investment instrument without the threat of paying any capital gains tax or any other taxes resulting from the sale of your investments.
Now consider the 2 primary disadvantages:
Associated costs and fees involved – be aware that your earnings realized in a variable annuity may not always earn you the return that you would realize from some other investment vehicle even though the return is guaranteed. Just know that the insurance company you purchase the annuity from could charge fees that could be significant and they will reduce the amount of the return you receive.
Tax liability once payments are distributed – the income that accrues during the term of the annuity contract before the distribution of the funds occurs is not subject to any tax liability. However, when you start withdrawing them, they are subject to taxation. What you need to know is that the tax savings will not be as significant as those of a 401(k) or Roth IRA retirement account. So shop carefully when looking for the right variable annuity.